The Economist - USA (2020-05-16)

52 Business The EconomistMay 16th 2020

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1

in the oil-and-gas industry is at distressed

levels. Five other sectors have ratios of 35%

or higher: retail and restaurants, mining,

transport, cars and utilities (see chart).

The upshot is that a second, bigger wave

of bankruptcies is on the cards. How would

that compare to past troubles? At the peak

of the financial crisis, the global default

rate for junk bonds was 10%. Moody’s, a

credit-rating agency, predicts that if the

current crisis is more severe than the fi-

nancial crisis, as now seems likely, the de-

fault rate could rise to 20.8% (see chart).

The coming bankruptcy wave could be

worse than during the financial crisis be-

cause it will be more widespread, reckons

Debra Dandeneau, a bankruptcy specialist

at Baker McKenzie, a law firm. But she

thinks it will take some months to arrive:

“We’re in the eye of the hurricane now.”

Another big difference to the financial

crisis arises from uncertainty. The nature

of this pandemic makes it impossible to

know when the economy might return to

normal. As William Derrough, a restructur-

ing specialist at Moelis & Company, points

out, “It’s very hard to value a company that

doesn’t have clear cashflow and visibility

on its future markets.” Jared Ellias at the

University of California at Hastings argues

that “lenders don’t know whether to re-

structure out of court, grant forbearance or

insist on Chapter 11 bankruptcy when you

have no idea when a firm will make money

again.” Worried about the coming deluge of

cases, he organised a group of experts that

last week petitioned Congress to appoint

more bankruptcy judges and increase bud-

gets for law clerks and other staff.

“It will be very difficult for courts to

keep up with the onslaught,” says Judith

Fitzgerald, a former bankruptcy judge now

at Tucker Arensberg, a law firm in Pitts-

burgh. Amy Quackenboss of the American

Bankruptcy Institute, an industry body, re-

ports that members are busy, which will

translate into more filings later on. Larry

Perkins of Sierra Constellation Partners, a

restructuring firm, thinks a legal bottle-

neck is “absolutely” possible unless court-

rooms “evolve to digest it”. Vince Buccula

of Wharton business school thinks part of

the solution lies in embracing faster “pre-

packaged” bankruptcy deals and debt ex-

changes (lenders agreeing to swap less

onerous new debt for old unserviceable

debt) done out of court.

A looming wave of bankruptcy cases

points to the third question: how viable are

the alternatives? There is good and bad

news. The financial crisis saw a massive li-

quidity crunch and financial-sector implo-

sion. But as Bruce Mendelsohn of Perella

Weinberg Partners, an investment bank,

observes, “this crisis is the opposite. Capi-

tal markets are strong and open with many

firms able to access capital from govern-

ment or from markets, but...the fundamen-

tal operations of businesses are disrupted.”

There is a flurry of activity among inves-

tors pouring money into so-called rescue

funds. According to Preqin, a data firm, dis-

tressed-debt funds are looking to raise

nearly $35bn. General Atlantic, a private-

equity firm, is in the midst of raising nearly

$5bn to invest in otherwise-healthy busi-

nesses squeezed temporarily by shut-

downs. Bill Ford, General Atlantic’s boss,

thinks that outside the retail sector, where

many business models will prove unviable,

“most firms will try to avoid bankruptcy

and seek rescue capital instead.”

All restructuring firms are hiring, notes

Michael Eisenband of ftiConsulting. He

observes that there are more types of credi-

tor today than during the financial crisis,

so there is “more opportunity to get liquid-

Debtors ledger

Sources: S&P Global; Moody ’s

*Speculative-grade bondspayingovertenpercentagepointsaboveUSTreasuriesas%oftotal

†One-yearpessimisticforecast ‡One-yearbaselineforecast

Health care

Media & entertainment

Aerospace & defence

Capital goods

Automotive

Metals, mining & steel

Retail & restaurants

Oil & gas

806040200

United States, distressed-debt ratio*

April 27th 2020

Total debt affected, $bn

14.9

32.1

2.9

6.9

7.5

9.3

18.4 1 18 4

64.6

25

20

15

10

5

0

20102000901981

Global bond-default rates, %

Speculative-grade

Investment-grade

†

‡

Divvy-dent

S&P 500

Sources:FactSet;S&PGlobal;Bloomberg;TheEconomist *AtMay8th †AtMay7th 2020 ‡Basedonexpecteddividendsin 2020

200-20-40-60-80-100

Energy

Consumer discretionary

Industrials

Financials

Materials

Communications

Real estate

Consumer staples

Health care

Technology

Utilities

Forecast earnings for 2020*, by sector

% change on a year earlier

S&P 500

average

Energy

Consumer discretionary

Industrials

Financials

Materials

Communications

Real estate

Consumer staples

Health care

Technology

Utilities

806040200

Share of companies that have withdrawn or revised

earnings guidance since covid-19†, by sector, %

S&P 500

average

January 1st 2020=100

100

80

60

110

90

70

Jan Feb Mar Apr May

Dividend-futures index‡

Stockmarket index

On unveiling Amazon’s strong first-quarter sales, Jeff Bezos issued a warning: next quarter’s operating profits would fall as the firm

covid-proofs its e-empire. No bonanza for shareholders, then. Ditto for much of the s&p500. Nearly all its firms have now reported

their quarterly results. Because America Inc locked down in mid-March, these do not reflect the pandemic’s toll. Few ceos have been

as blunt as Mr Bezos about what comes next; 45% have suspended or revised guidance. Analysts expect profits to fall by 20% this year.

The futures market is pricing in large cuts to s&p500 dividends in 2020 and 2021. The bouncy stockmarket—not so much.

Profits seeping